INTEREST rates look likely to remain on hold this week but the cost of borrowing could fall before the end of the year.

The Bank of England’s Monetary Policy Committee (MPC) is widely expected to leave the base rate unchanged at 5% when it announces the result of its two-day meeting on Thursday.

But the decision is likely to be a close call, and follows a three-way split among MPC members at its August meeting.

Business groups have urged the committee to reduce the cost of borrowing to avoid a major downturn, and MPC member David Blanchflower last week warned that an extended and deep recession was possible unless interest rates were cut quickly and significantly.

House prices are now falling at their fastest rate since 1990, losing 10.5% of their value during the past year, and economic growth stagnated during the second quarter of the year, heightening fears that the UK is heading for a recession.

But inflation remains an ongoing concern for the MPC, with consumer price inflation at 4.4% in July already well above the 2% target and likely to increase further in the coming months.

Bank of England governor Mervyn King has warned that the UK economy is in for a difficult and painful period due to a combination of high inflation and rapidly slowing growth.

He said at the Bank’s last inflation report that there “was bound to be a quarter or two” of negative growth.

Inflation is expected to peak at more than 5% in November, before beginning to fall sharply, paving the way for future rate cuts, with some economists pencilling in a fall in November.

Howard Archer, chief European and UK economist at Global Insight, said: “It now seems a question of when – rather than will – the Bank of England cut interest rates.

“Furthermore, we believe it is now more likely than not that interest rates will be cut before the end of 2008.”

He said rates could begin to come down as early as November, and could fall to just 3.5% next year.

David Page, an economist at Investec Securities, agreed that falling oil prices and a deterioration in the UK’s economic outlook paved the way for future cuts in the cost of borrowing, but he said a reduction in November appeared to be premature, with the first move down likely to come in February.

Ross Walker, UK economist at Royal Bank of Scotland, also expects the first reduction to be in February, but he added that the risks gravitated towards a November reduction.

But David Kern, economic adviser to the British Chambers of Commerce, warned the MPC not to wait too long before reducing the official cost of borrowing.

He said: “A major recession can still be avoided, but the MPC cannot wait too long before acting. To reduce the threat of a severe economic downturn, the MPC must start cutting interest rates in October or November.”